Member Article

The Ministry of Commerce (“MOFCOM”) promulgated the Measures for the Administration of Commercial Franchise Operations on 31 December 2004. The Measures, which came into force on 1 February 2005, replace the 1997 Measures for the Administration of Commercial Franchise Operations (for Trial Implementation) which only governed franchising involving domestic operators. Chapter 7 of the Measures contains special provisions regarding franchising undertaken by foreign investment enterprises (“FIEs”) thereby opening up this formerly closed sector to foreign investment. Definition Franchising is defined in the Measures as a contractual relationship whereby a franchisor grants a franchisee the right to use its business resources such as its trademark, trade name, business model etc. and the franchisee operates under a uniform operational system and pays a franchising fee to the franchisor in accordance with the stipulations of the contract. Franchising Models The Measures distinguish between two franchising models. In the first model, the franchisor directly grants the franchise rights to the franchisee who then invests in the establishment of a franchising network and engages in business operations. In this first model the franchisee does not have the right to sub-franchise. In the second model, the franchisor grants exclusive franchise rights for a specified area to the franchisee who may sub-franchise to others and may establish its own franchising network within the specified area. Conditions A franchisor must satisfy the following conditions: • it is a lawfully established enterprise or other economic organisation • it has business resources such as a trademark, trade name, business model which it is entitled to license for use to third parties • it has the capacity to provide to the franchisee long-term operational guidance and training services • it has inside China at least two directly operated shops or directly operated shops established by its subsidiaries or holding company which have been in business for a minimum of one year • if the franchising requires the franchisor to supply goods, the franchisor must have a goods supply system, which is stable and capable of guaranteeing quality, and be capable of providing related services • it has a good reputation and no record of using franchising to engage in fraudulent activities A franchisee must satisfy the following conditions: • it is a lawfully established enterprise or other economic organisation; • it has financial resources, fixed premises and personnel, etc. The Measures set forth the rights and obligations of both the franchisor and franchisee. Franchise Contract The Measures specify the contents of a franchise contract. Franchise fees can take three forms: • membership fees: a one-time payment made by the franchisee to the franchisor for obtaining the franchise rights • royalties: regular payments made by the franchisee to the franchisor in the course of using the franchise rights based on a fixed standard or percentage • otherwise specified fees: payments made by the franchisee to the franchisor in accordance with the contract in order to obtain the relevant goods or services from the franchisor The minimum term of a franchise contract is three years. After termination of the franchise contract, franchisees may not continue to use the registered trademark, trade name or other marks of the franchisor. FIEs If an existing FIE wishes to (continue to) operate a franchise in China it is necessary to apply to its original examination and approval authority to amend its scope of business to include the phrase, "to engage in commercial activities through the franchising method." To establish a new FIE to engage in franchising activities, the conditions specified in the Measures and in the foreign investment laws and regulations of China must be satisfied.